Jake at Econompic gives us this chart, which shows that convertible arbitrage has indeed led the way this year:

Unfortunately, he has a fine post, which shows the dark side of this rally and the “carry trade” which has been helping finance it:

if the correlation of assets purchased is near one on the way up, it is sure as hell going to be that high or higher on the way down. And what happens to all these investors that are attempting to leave the same exit door at the same time? Massive re-purchasing of the dollar and massive selling of any risk asset… joy.

Joy indeed.

Cross posted at “The View From the Bluff.”

Technorati Tags Adam Smith, Economics, great economists, quiz, Robert Whaples

Emma James of the Baton Rouge Business Report interviews myself, Mike Patton of Integrity Wealth Management (a pretty good egg from what I know of him) and Professor Kelley Pace of LSU on the subject of Real Estate Investment Trusts (REIT’s.) I think she does a pretty good job on what is in fact a very complex issue at the moment.

On a longer term basis public REITs are reasonably valued, and the very possible collapse in the Commercial Real Estate market will give public REITs with their more flexible capital structures the ability to buy some very attractive property at distressed prices. However, they will likely be under tremendous pressure in the shorter run, and the overall market environment is likely to be unkind as well. Which means we may get a chance to buy them at a much cheaper price down the road, with the opportunity for them to profit from the distressed property market still in front of us. It may seem a bit like dancing on gravestones, but I would welcome it.

Unlike 2006-2008 I am not of a mind to go “short” publicly traded REITs however, as reasonable long term valuations make that potential decline far from a given.

Posted via web from Risk and Return’s Posterous

Folks, don’t fall for it. The stock market may rise or fall in coming months but “money on the sidelines” will not have anything to do with it. Barry resurrects an old John Hussman piece which is one of my favorite dissections of this myth:

I’ve said this before, but it’s important. If Ricky sells his money market shares and buys stocks, then his money market fund has to sell commercial paper to Nicky, whose currency goes to Ricky, who uses it to pay for the stock bought from Mickey. In the end, the currency that Nicky held is now held by Mickey, the commercial paper held by Ricky is now held by Nicky, and the stock held by Mickey is now held by Ricky, and there is exactly as much stock, commercial paper, and currency outstanding as there was before. All that happened is that the owner of each security has changed.

I suggest reading the whole thing, but if ordinary logic doesn’t prove it then maybe actual facts about the behavior of markets will help, also courtesy of Barry:

Notice, when the market was rising so was cash. It didn’t disappear into the stock market and explain the rising market. In fact, during the tech crash it declined along with the market. Before the most recent market crash this argument “cash on the sidelines” was used to argue why the stock market wouldn’t decline. How did that work out?

Amusingly (if somewhat darkly so) Hussman in the piece above wrote in 2006 how the fallacy might mislead us:

There is an important reason for these considerations here. As I’ve noted in recent months, it’s likely that China and Japan will at least stabilize in their willingness to absorb the flood of government liabilities that they’ve been snapping up in recent years. That means that more of these liabilities will be forced into the hands of U.S. investors. As that happens, we’re likely to observe an accumulation of “cash on the sidelines” that might look like a hopeful sign for stocks.

A hopeful sign that left investors holding the bag. Don’t believe it this time or next time.

Technorati Tags investing, investment myths, John Hussman

Look deeper, however, and the government isn’t really quitting its bailouts at all. It is just shifting strategy away from banks and financial services to a new set of quieter bailouts, centered on the housing and real estate markets in general and Fannie Mae and Freddie Mac in particular. In this way, the administration’s actions are meshing with the wishes of House financial services committee Chairman Barney Frank, who said last year, “I want at least two years with President Obama and a solidly Democratic Senate so that we can get the federal government back in the housing business.” Now it is, even to the point that the government is at risk of creating another mortgage bubble. We just have to see if the government can handle it.

The government has to concentrate all of its resources on keeping the housing and real estate markets stable because the government is now the single biggest investor in mortgage-backed securities. It bought more than 80 percent of all the mortgages issued by Fannie and Freddie. What this means is that if homeowners start to fall behind on those mortgages in even bigger numbers than the current 9.24 percent default rate, the government is in deep trouble, starting with the Federal Reserve. The Fed’s own balance sheet—its financial holdings—has ballooned to $2.1 trillion from just $800 billion a year ago. One-third of the Fed’s balance sheet is weighed down with $625 billion of troubled mortgage-backed securities, once floating around the market and now invited to stay in Uncle Sam’s own accounts.

Read the whole thing.

Technorati Tags Barney Frank, Fannie Mae, Federal Reserve, Freddie Mac, housing crisis, Housing Market

From the New York Times: U.S. Job Seekers Exceed Openings by Record Ratio

Hat tip: The Big Picture

Technorati Tags Employment, the economy, unemployment

Inflation from Marketplace on Vimeo.

Technorati Tags banks, deflation, Inflation

However, working that mountain of debt down needs to be done and will be a large drag for years. Hat tip: Clusterstock

Technorati Tags debt, debt crisis, the economy

Here is part I:

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Technorati Tags credit crisis, deflation, Economic Indicators, Economics, housing, Housing Market, Inflation, investing, markets, monetary policy, Risk, subprime

For some of the best and most insightful financial writing around I recommend combing through his archives. I occasionally do. Revisiting past musings of the greats may not be as immediately useful as some things, but longer term it allows a perspective that will serve you well over time. distributed raman amplifier

One view of the Japanese stimulus (or multiple stimuli) is that it (they) failed because it was (they were) too small. Just as the reason that in World War I all British attacks prior to the Battle of the Somme failed was because they were too small.

Technorati Tags Arnold Kling, Economics, Japan, quotes, World War I

Therefore it is no surprise that it is a larger story in Baton Rouge than elsewhere. Anyway, The Baton Rouge Business Report’s (as fine a local business publication as there is in the United States) Olivia Watkins interviewed me on how those of us in the industry viewed the impact and fallout from this. It was a long discussion, but some of my thoughts on how this kind of thing has played out in the past made it into this story.

Technorati Tags Baton Rouge, Baton Rouge Business Report, CDS, fraud, Ponzi Schemes, Recievers, Stanford Group

Click for larger version of charts.

Technorati Tags economy, Employment, New York Times

The bank will use leveraged loans and commercial mortgage- backed debt, some of the securities blamed for generating the worst financial crisis since the Great Depression, to fund executive compensation packages, people familiar with the matter said. The new policy applies only to managing directors and directors, the two most senior ranks at the Zurich-based company, according to a memo sent to employees today.

I love it. If they go up the execs get a big payoff. If they don’t, at least they are off the banks books.  Cash is preserved, the balance sheet strengthens.

Technorati Tags Credit Suisse, leveraged loans, management compensation, mortgage securities

The cure for our housing crisis is prices coming down and all the pain that comes with it. Making them “affordable” through extra low interest rates just creates a new crisis down the road.

Technorati Tags Charlie Mayer, debt crisis, Glenn Hubbard, housing crisis, Housing Market

The peak in 2000 marked an unprecedented 160% overshooting of the trend, which is double the overshoot in 1929. The index has been above the trend for 17 years. We also see that the major troughs saw declines in excess of 50% below the trend. If the S&P 500 were sitting squarely on the regression, it would be hovering around 820. If the index should decline over the next 12 months to a level comparable to previous major bottoms, it would fall to the vicinity of 400-425.

That is a teeny bit lower than how I see it, but it is about right. However, he provides a chart which adjusts for inflation using John Williams’ shadow government stats. That shows the markets at all time lows. You can see and read the rest here.

I have one problem with that analysis. While I do think some adjustment might make it look a little better, if John Williams’ numbers are correct then stocks should be as low as they are because GDP and earnings have been horrible in inflation adjusted terms for a very long time. We have been in a recession for two decades similar to Japan. I don’t think that is true, but if so then stocks deserve every bit of the undervaluation they have experienced.

I’ll stick with the first graph being slightly overstated. It should be noted that statisticians would likely have problems with the while idea of the long term regression line having any meaning. I disagree, there are fundamental economic reasons the line makes sense as an approximation. I won’t go into the details now, I just want it noted I am aware of the issue.

Hat tip: Barry Ritholtz.

Technorati Tags chart, mean, regression, stock market, Valuation

Technorati Tags Automobile Industry, bailout, banks, Big Three, Hank Paulson, Treasury

The sad thing is that it isn’t only “liberal” economists, it is the meat of the profession and plenty of so called “conservative” politicians.

Hat Tip: McQ

Technorati Tags Barack Obama, Economics, economy, fiscal stimulus, Fred Thompson, Humor, Politics